Smith Micro Software Inc (SMSI) 2004 Q3 法說會逐字稿

Welcome to the Smith Micro Software 2004 third-quarter financial results conference call. (OPERATOR INSTRUCTIONS) Now I will turn the meeting over to Mr. Bruce Quigley, Vice President of Investor Relations. Sir, you may begin.

Thank you. I want to thank everyone for being very patient. Our webcast group had a telco failure and we were trying to get them up and running, and that was the cause of the delay. But thank you for your patience.

Welcome to Smith Micro's discussion of the third-quarter 2004 financial results, which ended September 30, 2004. By now you should have received a copy of the news release. If any of you did not see the release, you may acquire it either at the Company's website at www.smithmicro.com or calling 949-362-5800 and we will fax 1 to you immediately.

On today's call are Bill Smith, President and Chief Executive Officer, and Bob Scheussler, Senior Vice President and Chief Financial Officer, and myself.

During the course of this conference call we may make forward-looking statements regarding future events or the future performance of the Company. Actual events or results, of course, could differ materially. These forward-looking statements speak only as of today's date and are based upon the information currently available to the Company. The Company disclaims any intent to update publicly any such forward-looking statements, whether in response to new information, future events or otherwise. We refer you to the documents the Company files from time to time with the Securities and Exchange Commission, specifically the Company's most recent Form 10-K filed this past March 2004 and the second-quarter 2004 10-Q, filed this past August. These documents contain and identify important factors that could cause actual results to differ materially from those contained in any forward-looking statements.

At this time I would like to turn the call over to Bill Smith.

Thanks, Bruce. I too want to welcome you to our third-quarter 2004 conference call. As always, I will give you an overview of the quarter before Bob Scheussler gets into the financial details. I will then come back and provide some overall details on the current market opportunities, and then open the call for questions.

Before I begin, I want to welcome Sam Gulko to our Board of Directors. I have known Sam for over 10 years, and his 20 years experience with Ernst & Young and his various CFO and CEO positions with public and private companies will be a welcome contribution to the Board.

As indicated in our press release, third quarter 2004 was again another strong quarter with net revenues increasing to 3.6 million, a 137 percent increase over the same period in 2003 when we recorded revenues of 1.5 million. Net revenues for the first 9 months of 2004 were 9.2 million, an increase of 62 percent over net revenues of 5.7 million reported in 2003.

Net income for the third quarter of 2004 was 1.1 million, resulting in a 6 cent per basic and diluted share, which is a substantial increase when compared to a net loss of 472,000 or 3 cents per basic and diluted share in the same quarter of last year. This is a 70 percent increase over the second quarter 2004 where we reported results of a net income of $634,000 or a net gain per basic and diluted share of 4 cents.

We also once again find ourselves entering the quarter with the largest ever backlog position of $2 million, which we feel puts us in a strong position entering the fourth quarter.

As you can imagine, I am once again very pleased with the past 3 quarters of 2004. We continue to build upon the momentum we started in 2003 as the leading provider of wireless connectivity software. Verizon Wireless continues to put its full support behind both high-speed data services and software provided by Smith Micro. I will discuss this more in more detail later in the call.

At this time I would like to turn the call over to Bob Scheussler, our CFO, to describe the third-quarter financial results. Bob?

Thank you, Bill. In summary, results during the third quarter of 2004 resulted in a profit of $1.1 million compared to a loss in the third quarter 2003 of $472,000, an increase of $1.5 million. Third-quarter revenue increased $2.1 million to $6.3 million, up from $1.5 million in the prior year third quarter, a gain of 137 percent. Segment revenues for Q3 of 2004 are reflected in the consolidated financial statements.

Regarding revenues from our individual business units, wireless and OEM products posted revenues of $3,095,000, and Internet and direct solutions posted $461,000. Wireless and OEM revenues in the third quarter of 2004 increased 209 percent or $2.1 million compared to the third quarter of 2003. The primary contributor to this increase was the combination of increased data kit unit volume, along with the additional revenue generated by the new PC card software that began shipping in Q2. The Internet and direct solutions unit ended the third quarter of 2004 with a decrease of $37,000 compared to the third quarter of 2003, a decrease of 7 percent. The change in revenue is the result of lower Web and direct product sales.

Switching to growth in gross profit percentage in the third quarter of 2004, total gross profit percentage in the third quarter of 2004 was 81 percent, up 5.7 points compared with the third quarter of 2003. Product gross profit percentages in the third quarter of 2004 increased 6.4 points to 83 percent compared with the third quarter 2003. This is reflective of the growth of the wireless products year-over-year from data kits to now include PC card software. Services gross profit percentages in the third quarter of 2004 decreased 14 points compared with third quarter 2003. This is the result of consulting project mix.

Operating expenses increased $183,000 or 11 percent compared with the third quarter of 2003. This represents an increase in G&A and includes patent-related legal and employee benefit costs.

In closing, the balance sheet summary -- cash balance of $5.7 million. This is an increase of $1.5 million from prior quarter and an increase of $1.4 million over Q3 2003. Accounts receivable is a very solid and current, $1.8 million, consistent with Q2 2004 receivables. Accounts payable is current, inventory levels are nominal and no long-term debt.

This concludes our review of the third-quarter financial results. Now let me turn it back to Bill.

Thanks, Bob. The third-quarter results represent the continued efforts of both our wireless and OEM sales team and our Internet and direct sales team as they continue to exceed their internal goals. The exciting news that we presented during the quarter is particularly noteworthy, as it continues to be indicative of the growing strength of the wireless data business sector, an particularly of Smith Micro's ability to provide the software that our customers require to facilitate a smooth and effortless installation and utilization of wireless data connectivity services.

During the early part of the quarter, Verizon Wireless announced VZAccess Manager that supports both their broadband access or their new 3G EVDO service. It also supports its national access or they're 1xRTT service in the event that you're not in an EVDO service area. At the time of the announcement, EVDO was only available in Washington D.C. and San Diego.

That announcement by Verizon Wireless was the culmination of months of planning and development by both Verizon Wireless and Smith Micro personnel to create a powerful access manager that complements the industry-leading high-speed EVDO network rollout. The following day, a joint Smith Micro-Verizon Wireless press release went out announcing that Verizon Wireless had standardized on our wireless data connectivity solution, a branded version of our QuickLink Mobile, which is the VZAccess product. More important, we are now the sole source for Verizon Wireless data connectivity kits and PC cards. This was welcome news and will continue to be an important factor for Smith Micro as the PC card business is a new business for us.

An additional exciting part of that announcement was that the version of VZAccess is dual branded by both Verizon Wireless and its parent, Vodafone. This new dual-branded product will allow a Verizon Wireless CDMA customer to travel to Europe and gain access to the Vodafone GPRS UMTS network while using the same Smith Micro application.

Verizon Wireless followed this news a week later by announcing that they had opened up broadband access service to the Las Vegas metropolitan area. In late September, they announced the availability of broadband access service in 14 new metropolitan areas, including some of the larger markets -- New York, Los Angeles, and Philadelphia. They also announced that the service is available in 20 other airports throughout the US. They stated at the same time that they intend to announce additional markets through the rest of 2004, giving broadband access and national coverage to over 75 million people. We were also excited to hear that while presenting at the USTA Telecom '04 conference in Las Vegas, Verizon Communications Chairman and CEO said the company plans to add 16 more EVDO markets by the end of the year and will continue to expand their market presence with a high-speed data service throughout 2005.

At the beginning of 2004, Verizon Wireless announced an investment of $1 billion to deploy 3G service throughout 2004 and into 2005. We believe this, as well as the recent announcements, show Verizon Wireless’ true commitment to deploying and marketing the service. As you can imagine, being the sole source for data connectivity software, we're very excited about Verizon Wireless' actions.

Let me move onto other business that we concluded during the quarter before I come back to make more comments about Verizon Wireless and wrap things up.

Symantec announced that their latest Norton Systems Works 2005, which includes a suite of utilities, also includes our CheckIt Diagnostics. The CheckIt product line continues to be 1 of the leading utility product lines and 1 of our strongest acquisitions, as evidenced by Symantec's decision to license our product rather than building it themselves.

Another significant development during the quarter was the addition of Dobson Communications to our family of QuickLink Mobile customers. Dobson, operating under both the Dobson and Cellular One brands is the nation's number 8 wireless service provider and wireless provider of data connectivity. We will provide Dobson with our connectivity software and provide them with finished product in the form of data kits and kitted PC cards. We do not take title of the PC card, but we do provide the kitting services.

We have also licensed to Dobson the use of the QuickLink brand-name for their data connectivity products. This license lasts as long as they ship our QuickLink Mobile software. We are pleased to be chosen as their software provider as they continue to grow their data communications services. They have an aggressive plan to offer GPRS data services to their target markets, and we will continue to work diligently with them to help provide the best possible wireless data software.

As seen on CNBC (ph) recently, we announced the availability of QuickLink Mobile WiFi Seeker during the quarter. This is a small device that you can easily attach to your keychain or notebook, and simply with the push of a button be able to identify both the availability of a WiFi signal and a signal strength. Using the QuickLink Mobile WiFi Seeker offers a much more practical method to locating a WiFi hotspot than turning on and setting up your notebook and having to walk around in search of a signal. We're selling the Seeker on our website for $29.95, and to date it is selling very well. John Dvorak in a recent review of WiFi Seeker in PC Magazine said that, "these devices are very handy to pull out when you're looking for a true hotspot. I like this device over the other WiFi detectors that I have tried. SmithMicro's WiFi detector fits nicely on a keychain and it works perfectly. Highly recommended."

Moving onto some new and additional business, we will be exhibiting at the CTIA Wireless IT Show in San Francisco next week. The focus of this show is to address the particular needs of the overall enterprise market. As such, we will be supporting Verizon Wireless' work at the show as they address that market particularly while providing (ph) the new EVDO network. We also intend to promote our own enterprise initiative. I believe that the enterprise market represents a vast untapped market for wireless connectivity, and we aim to be a significant player in the emerging market. We will be discussing specifics of the rollout of this program in the coming quarters.

Finally, and we recently hired an IR firm to enhance our investor relations program and to support the growing interest in our company and our stock. The firm is MKR Group based out of Los Angeles. And if you do not already know them, you will soon. We intend to be hitting the road with them over the next few weeks so that we can spread the message about our growing wireless business case.

As I said during the 2003 year-end conference call, we saw 2004 as the year when the Company would once again turn profitable. We've accomplished this effort by increasing our revenues, managing our costs and carrying forward a significant backlog each quarter. We're pleased about the execution across the board by everyone at Smith Micro.

Verizon Wireless has of course been a strong contributor to our recent success. They are not only a good customer, but also a great partner. Everyone at Verizon Wireless works very well with our team, which results in a quality product and excellent service for the consumer.

In addition to Verizon Wireless, all our other Smith Micro wireless customers are equally as helpful in making our business succeed. I am very excited to have a Dobson on board and look forward to a long business relationship with them. I am equally excited that we believe we have a lineup of new carrier customers in the wings to continue to grow our business.

The high-speed wireless data service is a strong emerging market as the leading wireless carrier in North America, Verizon Wireless, is not only embracing the technology, but more importantly are the leaders in deploying the service. This is a great endorsement for the high-speed wireless data service market going forward. As our carrier customers succeed in selling high-speed data services, Smith Micro succeeds because their subscribers need either a data connectivity kit or a PC card, both of which include our software.

With that I would like to turn the call over for questions. Operator?

(OPERATOR INSTRUCTIONS) Edward Ching, Rodman & Renshaw.

Good afternoon. Nice quarter. Can you give us more info on the product mix between office kits and PC cards this quarter?

At the present time we don't actually break out of the mix parameters. Suffice it to say that the PC card sales were strong as far as for software for PC cards, and it had a strong effect on increasing our gross margin.

What was the reason for the spike in G&A?

It's the result of 2 things primarily -- some patent-related legal costs, and those legal costs relate to the filing of patents; and some employee benefit-related costs.

With the patent-related legal costs, does that mean -- is that maybe a sign that you guys are going to go after maybe some IP lawsuits coming here? Or are you getting ready to?

We have over the years protected our technology base through the filing of patents going back to Fax software on through video software to where we are today in the wireless world. And we are protecting our core wireless technology by applying for patents. There's no litigation dimension to this.

Okay. Thanks, guys.

Michael Brown, ICM Asset Management.

1 quick 1 on the backlog. I think it was about 1.5 million last year. Is that right?

That's correct, Mike.

So the 2 million this quarter, how much of the 1.5 million is included in that?

None. By definition -- and let me just clarify that -- when we quote a backlog number it's orders received during the prior quarter that did not ship during the prior quarter, but are scheduled to ship in its entirety during the following quarter.

I apologize. I didn't realize that was the definition. I don't know how much you can answer this question, but you found some great revenue growth over the last couple of quarters; great incremental operating margins, north of 90 percent. But I look at what's out there as far as estimates go, and it looks like they're looking for you to do 100 percent sequential, which based on my historical data you've never done, and at the same time a real plunge in incremental operating margin. Am I missing something or is that overly ambitious?

That's a tough question for me to answer. Clearly analyst numbers are created by analysts. And I think if I understand what you're getting at, there was an expectation on the part of analysts that the EVDO would be further along on the part of Verizon than it presently is. And that did not happen, which I expect was part of the reason for the large growth in the topline.

We focus on growing our topline and have fairly consistent exceeded the analysts' expectations on the bottom line. We would hope that we could continue to do that. We believe that the rollout by Verizon of EVDO with what they've announced now, at least tentatively or announced by their parent, Verizon Communications, as 16 additional cities reaching 75 million people, will continue to have a positive effect.

Now, it is probably worth taking a moment to say that the increase in revenue is not immediate. It builds over time. And therefore, we look to increasing our revenues going forward. I can't speak to the number you're alluding to, though.

That's good enough. That gives me some idea. And then 1 last 1, and I will pass it on. Do you have any current plans that would ratchet up operating expenses in sort of a step function way? Or at least for the foreseeable future do you see sort of a smooth progression as revenue grows, OpEx grows, sort of like it's been over the last couple of quarters?

That's a good question. No, we don't see a significant growth and operating expense. We're making some efforts to manage that any growth in operating expense by being very prudent in how we go about it. 1 of the things we are looking at is creating an offshore engineering team to function as an expansion contraction joint, if you will, to meet our needs in the short-term and then be able to jettison the expense when it's no longer meaningful. We are investing in our Company. We see gradual growth in our operating expenses in the engineering and the marketing area going forward, but nothing extraordinary.

Very good. Thank you.

Orin Hirschman, Ohio Investment Group.

Congratulations on the results. You mentioned that you're working with a variety of carriers now. DO you think that over the next few quarters we will begin to actually see some of those carriers begin to actually take product?

Let me answer that 2 ways. First off, other carriers already did take product, and we expect to continue to see them grow. They're just not as large as Verizon, so therefore the large focus on Verizon. I did say, however that we have other carriers that we are working with that we expect to kick in in the coming quarters that would have a direct impact on growing our business, and I will stand by that.

Is that both domestic and foreign?

I think you should consider it a worldwide initiative.

Thank you.

Greg Weaver, Kern Capital.

Just following on to that, you mentioned about Vodafone co-branding the Verizon product. Are they selling the Access Manager product in Europe?

I can't really comment on Vodafone, as we've not publicly stated anything directly between Smith Micro and Vodafone. And as soon as something like that is reality, I'm sure that we will come out and talk about it.

On Dobson, did you realize revenue from them in this past quarter?

Yes, we did. We shipped both software with PC cards, as well as with their data kits.

Were they a 10 percent customer?

No.

And would it be fair to say just in terms of your incremental revenue growth here and you're nice gross margin pop that -- it seems like at the margin your incremental revenues were very high profit. Would it be fair to say most of the incremental business you had here sequentially was PC card software?

I would say most of it is probably from PC card software. We did see sequential growth in the volume of data kits. Let me try to expound on that just for a second, though.

In the EVDO marketplace for Verizon, and Verizon's clearly our largest customer, there are presently not EVDO-compatible phones. Therefore, the data kits that are being sold are for use with 1xRTT service. If a consumer wants to utilize the broadband access EVDO service, they will need to purchase a PC card, and that is probably true for the short-term.

Just to help us understand in terms of the potential Verizon ramp here and with the markets that they're rolling out, is there an inventory element to Verizon sales in terms of when they roll out a new markets? Do any of their physical stores actually carry a certain amount of inventory that would result in initial sales even though they haven't signed up people for you guys?

Let me carefully answer that. We don't know exactly what their inventory levels are in their retail stores. They tend to order on a just-in-time basis. They give us forecasts, which are reflected heavily in the buildup of our backlog on a quarter-to-quarter basis. They give us indications of how product is selling through. They do not give us actual numbers. When they purchase product from us, it is sold. It doesn't have an elastic band or anything to come back at us. So it's really not an issue for us.

Thanks. Nice quarter.

Edward Ching, Rodman Renshaw.

Some follow ups. I know the Verizon Wireless contract is a long-term contract. However, I know that based on increased subscribership you have some play with the pricing. I was wondering at what points does the pricing change. Are we near that? When you add 16 more markets with EVDO I'm assuming at some point you come to a point where you have to re-look.

As we have stated, in the existing contract, and it has been so for a number of years with Verizon, there are price breaks based upon the volume of software that they purchase from us during a given quarter. It resets at the end of that quarter and we start all over again. You should expect that they in the early days never really got out of Tier 1. And in the present business case, they frequently do get out of Tier 1 into Tier 2, but there are many tiers.

Have any of the pricings been reset at any point within the last 2 quarters yet?

No, sir.

In terms of backlog, how much of the backlog was booked probably in the last 2 quarters of the quarter?

In the last 2 what?

2 weeks of the quarter. I'm sorry.

A fairly good portion of it. The backlog was started building with the start of the third month of the quarter and built throughout the quarter.

So it started building in September?

Yes, sir.

Thanks.

Orin Hirschman, Ohio Investment Group.

Just 1 follow-up please. You mentioned that you don't actually have control of inventories at Verizon, obviously. But I know -- I believe on prior calls you have stated you're very close with them and you are able to kind of monitor more or less what they're telling you is in their pipe. Is that still accurate?

That is still a true statement, but we don't have absolute numbers. We have summary numbers that they provide to us. But you know, this process now has moved beyond the crawling stage to the walking stage. And Verizon's internal forecasting models are getting a little bit more sophisticated. So it's not so much of a worry for us.

Thank you.

(OPERATOR INSTRUCTIONS) There are no more questions at this time.

Thank you. Once again I want to thank everybody for their patience. Hopefully we won't have that experience again. I want to thank you for being on the call. And we look forward to hearing from you during this quarter and talking to you at the end of the year. Thanks again.